tv Bloomberg Real Yield Bloomberg June 2, 2018 2:30pm-3:00pm EDT
>> the numbers are strong. >> it is good news on all fronts. >> i think the wage front is very important. >> even though the wages are just above 2.5%, inflation is bouncing around. real wage growth is pretty mute. people are dipping into their savings to continue to spend, and that is worrisome. >> we are still not seeing the real broad-based acceleration in wage road that we would like to see. >> it is pretty much a scenario where the fed hawks think they can move forward once or twice. >> the numbers are strong now. i think as you get into next year, is the fed going to go three to four times this year in total, they are going to go three to four times. >> joining me around the table is the chief investment strategist at pgm fixed income and the head of u.s. multi
sector fixed income strategy at black rock. great to have you with me. it is very hard to find any weakness in this job report today. did you find any? >> if you look hard enough, there is something to find, but it is a solid report. it is going to continue to grow, albeit not at the pace it has been. wages are going to move a bit higher. jonathan: things in the united states look decent. this data seems to back that up. is that what you see? mary: you would not think of high yield as being a safe haven but high yield relative to other regions has held well. jonathan: ccc's more so. >> ccc's more so. the problem has been rates. when we get a job number today,
it keeps us cautious and keeps us liking the ccc. jonathan: in terms of rates, it has been a strange week where some people started to remove rate hikes for 2018. does that make sense? robert: we saw in 2015 that when you have that crisis and the chinese currency was on the brink of devaluation, the fed basically moved to the sidelines. we saw in january, when there is stress in the market, people began to price the fed out. that is correct of the market, to figure the fed may get dragged into this because italy is a big country. it could be a systemic shock. that makes sense. having said that, as soon as you get past the peak of that crisis and begin to go back to the fundamentals in the ground, they are good. jonathan: why do have this spread? we got used to this a couple years ago, but more recently
things narrowed. 2020 is ages away, but this gives you an indication that this market does not believe the federal reserve can go where it is projecting. where is blackrock? bob: we think the fed is moving. as my colleague on the clip earlier said, we think it will move three to four times this year total. we do not think they are going much above 2.5. the market is priced for a 2.5% terminal rate. the gap in the dots. the market is a probability weighted pricing mechanism, so it includes probability of higher rates and lower rates. the long-term neutral rate in
this country is under debate. there is a fiscal policy impulse that is kicking in likely to impact growth and inflation for the next several quarters. in the overall medium term, we just don't think rates are going as high. jonathan: do you agree? robert: i see them going higher. they are going to have the scope to continue. i agree that once they get to a day they perceived to be as neutral, the onus of proof will rise. you are in a world where here in the u.s. people are thinking, 2% or 3%, these are not high interest rates, but around the world, rates are low. after being as high as 65 basis points, we're down to 20. we are in a low interest rate world.
i think they will probably get some signals that will slow them down once you get to the 2.5 area. jonathan: negative all the way out to six yea. we can talk about that later. mary, this concept of the federal reserve gradually moving through neutral. moving through neutral, how key is it for the federal reserve to get to a place where it can move through neutral? for a long time now, we have had accommodative federal reserve policy. mary: it is interesting and as we have seen the fed move toward high-yield, we have seen a good amount of outflows from the asset class. that being said, spreads have been fairly stable, but certainly as rates rise, some of the more levered markets could see headwinds in terms of the cost index. jonathan: i saw a piece from a professor on twitter. he pointed out the tension in the market.
the federal reserve is talking about moving through neutral. the market does not really buy it. it thinks the federal reserve is nervous about inverting the yield curve. they will have to invert the curve to go to neutral. can the federal reserve get away with getting through neutral without inverting the curve? bob: it is possible. one of the important factors that will influence that outcome is out of the fed's control. which is treasury issuance. how does the treasury manage the growing deficit financing needs that they have over the next several years? so far, they have not extended the duration of the weighted average maturity and probably unlikely to do so in the near term. but a shift in technicals could easily help the fed avoid an inverted curve even if they move above their version or assumption of neutral. jonathan: as we close this segment, every friday, if you went on vacation in the last
couple of months and only checked the market on friday, you would think nothing had happened. and hardly much has happened on a 10-year either. this curve has suddenly stabilized in tight ranges. we have had a vicious week, but over two years, every friday over the last five is in or around 250. what is the signal you take from that? robert: the underlying fundamentals, despite everybody's anxiety, are pretty stable. it is a good environment and the fed has been on their game, but by historical standards, they are being very cautious. that is why the ultimate change is quite muted. i will point out that treasuries are wide relative to the internals of the fed funds market. the fed funds swaps beyond the 10 year point are inverted. there only 2.5%, and the focus
jonathan: this is "bloomberg real yield." i want to head to the auction block where italian bonds have gotten relief. the country sold 3.6 billion euros with an average yield substantially higher than last month. the nervousness around politics showed up across europe this week, including in poland, where they may scrap its only regular bond auction for june, leaving its calendar blank for the first time this year. in european corporate's, only 82 billion euros of bonds were sold across may, a decline of nearly 50% versus a year earlier. issuers brave to debt markets this week, posting the slowest week for sales this year. bob, let's get your thoughts. the take away from europe this week, just, wow, the lack of liquidity evaporating.
what lesson do we learn? bob: there are a couple of things. one is, at a broad level, the markets are much less forgiving this year relative to past years. you have mentioned this before on this show. this notion of the six-year aggressive monetary policy that provided a tailwind for all financial assets, that's changing. it is changing most in the u.s., but it is also changing globally. markets are less forgiving than i have been and i don't think that will change soon. with respect to italy, it highlights the degree to which that market is based upon -- bond market valuations are primarily a function of aggressive monetary policy
intervention, unconventional policy pursuits. when there is a question about whether or not the central bank can or will continue to support a market, the difference between fair value with intervention and fair value without intervention is a big number. jonathan: did you try to get involved in the price action? robert: there were definitely opportunities there. as unstable as the situation is, europe is on a very strong footing. compared to 2012, they have taken phenomenal steps to strengthen their system, and a lot of those countries are reaping the benefits. growth is strong. the ecb is in a good place if they need it to support them. the italians had to stay with the program, and that is definitely in doubt. with other countries seeing their spreads widen, there are opportunities there. jonathan: liquidity totally evaporated in one of the biggest bond markets on the planet. what should the lesson be for anyone in high-yield?
there was always the sense that you can get out when you need to but when you need to get out most, you cannot. do you apply the lessons we could've learned this week to high-yield? there was always the sense that mary: to be honest, we think about it a lot. we saw that during the mini-energy crisis in high-yield a few years ago. that is not lost on us. it is something we keep in mind in our portfolios. jonathan: it was a difficult week as well for bill gross, the former bond king. i caught up with bill gross and asked him what went wrong this week in terms of the strategy. take a listen to what he had to say. guest: our strategy has been short german bunds and long u.s. treasuries. the spread between the two is historically high. for instance, on on the 10 year
u.s. treasury versus bond, it is 250 basis points. it has never been at that level. jonathan: that was bill gross. bob miller, if you are expecting that spread to narrow, how difficult is it to be short bunds? we have an incredibly distorted market. inflation south of 2%. can you short bunds? bob: you can short them for sure. whether you will reap a profit is a different question. to echo what you just said, german bunds do not trade at valuations that have anything to do with german economic fundamentals. inflation is a consequence of negative short-term interest rates set by the ecb and overwhelming intervention through large-scale asset purchase.
they are running less than they were a year ago and are expected to taper toward zero. our expectation is the ecb will have a very difficult time exiting long scale asset purchase programs over the next three to six months, even though they may very well dial it down going into 2019. those markets are not free trade based on economic fundamentals. it makes very challenging a relative value trade against a market less influenced by central bank intervention. jonathan: robert, your thoughts on that, and that we may have the widow maker all over again but this time it is german. robert: there is the ecb in the market, but there is a huge captive buyer base that has the top end of the treasury market. they can look at all these different markets on a hedged basis, and when they're looking at the five basis point yield in
germany, bunds are up .5%, there is a decent amount of carry and negative supply. these things are like a commodity. it is very dangerous despite the fact that by some measures that yields are low. jonathan: bunds versus treasuries, can it stay that wide? do you think it can stay that wide? robert: the chances of it going wider are going to have to be like, 50-50. the fed will be marching along, presumably another 150 basis points. by the same token, the ecb is probably going to be stuck trying to get to zero for two years. that spread will be under pressure, and all the while,
germany is piling a slight surplus. there is absolutely no supply, and on the treasury side, a massive amount of issuance. jonathan: it is a pretty crude way of capturing the transatlantic divide. the european economy versus the u.s. economy. but there are not many better ways to do it than comparing bunds to treasuries. does by american ring true to you at the moment? is that where people should adding exposure? mary: for now, yes. european high-yield has been under this year and we have been wrong for some time on european high-yield's. earlier this week, as it widened on italy, we did take some of that protection off because european fundamentals still look healthy. for the u.s., we are not jumping up and down about high-yield and certainly recognize that if things were to get worse in europe, we could see spreads widen, but for now,
we feel insulated. jonathan: next up, where bonds have been this week. believe it or not, after the week we have had, down just one basis point. on the 10 year note, we are down by about cointreau basis points. -- four basis points. still ahead on the program, the final spread. the week ahead as trade tensions spread. this is "bloomberg real yield". ♪
that next week. still with me, robert, mary, and bob. rob, the get into next week, there may be concerns after that stellar payroll report that we will have to start thinking about the fed going forward five times this year. what is the message to not fear the fed? robert: one is bond side and the other is that this is a less liquid, later cycle environment. at this point, typically the fed is moving but the yield long-term yields have stabilized. fixed income products tend to perform well. at the same time, your equity volatility tends to go up, and progress in the market tends to slow down. we are not looking for a recession, but as you get closer, the risk will be rising. the pessimism is not the way to
go in terms of the long-term fixed income. we are not at 1.5 on the 10-year note. we are pushing 3%, and i think that is a big number these days. jonathan: how do we know where we are in the cycle? i hear people talking about late cycle. what does that mean to blackrock? bob: late cycle is a really challenging debate. economically, with unemployment rates below the natural level, that would suggest we are later in the cycle. as we also know based upon history, that does not change until something disrupts it and it is subject to change a lot. financial markets strike us as reasonable valuations in fixed income, likely to get a little cheaper. risk assets are reasonably valued, but the growth trajectory is the harder question. piling on fiscal policy at full employment is not exactly the prescription we would have suggested. we think it creates a larger risk of a boom-bust scenario
where things look good for the the next several quarters and then the lack of organic replacement demands could create deceleration. it is a tricky environment, but the fixed income market is reasonably priced for the balance of outcomes. jonathan: i want to wrap things up with tricky questions. an italian election before year end? yes or no? robert: no. mary: yes. bob: no. jonathan: long btp's or long spain through year-end? robert? robert: i like them both. spain is a much easier call. mary: spain. bob: can i short them both? jonathan: is the trump twitter account the new leading payroll indicator? robert: no. mary: hopefully not. bob: no. jonathan: great to catch up with
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